How Do You Spell Real Estate Revival?

There may not be a lot of prospects for residential builders yet, but this is a great time for strategic developments like deepwater ports and airports, observes Eric Landry of Morningstar StockInvestor.

The company endured a board and senior management shakeup. Its top line showed little improvement through the third quarter, aside from a bulk timber transaction. What started as an informal SEC inquiry into the company’s impairment accounting early in the year was upgraded to a formal and more encompassing one last summer. And its stock finished the year 33% lower than where it started.

What’s more, its largest shareholder suffered material redemptions, indicating to many equity market participants that lower prices may well lie ahead, as the name succumbs to semi-forced selling. In all, 2011 was likely one of the most tumul­tuous years in the company’s long history.

Yet, 2012 and 2013 likely will prove more constructive. We believe a number of key initiatives are afoot in northern Florida that could lead to higher net asset value, as activity increases around two large economic drivers: the new airport in Bay County and a deepwater port in Gulf County that is likely to at least enter the planning stages this year.

St. Joe is deeply involved in both, and is uniquely positioned to benefit once these facili­ties become commercial successes.

Just Getting Started at the Airport
Development of acreage surrounding the Florida Beaches International Airport has been slower than most had hoped since its May 2010 opening. Thus far, only one company, ITT Exelis’ (XLS) Mine Defense Systems unit, has chosen to locate in St. Joe’s Venture­Crossings Enterprise Centre by leasing a 105,000-square-foot building to be completed in mid-2012.

St. Joe also is constructing a nearby 60,000-square-foot flex building, indicating to us that it may have additional tenant interest, but no announcements have been made yet. Aside from this development, activity has been disappointing.

The West Bay Sector is massive, encompassing 75,000 acres, with 30,000 of them developable. To the extent St. Joe can spark economic activity inside this sector, obvious value will accrue to its shareholders.

St. Joe owns about 95% of the land in this more than 100-square-mile sector, for which a detailed master plan exists, complete with zoning and entitlements for more than 35 million square feet of commercial/industrial uses and 27,000 residential units.

The new airport has vaulted Panama City from an also-ran in terms of available seat miles to northwest Florida’s second-largest airport. With the region’s only 10,000-foot runway, we expect air traffic to grow such that it becomes the region’s main air transporta­tion hub in the not-so-distant future. It’s the only airport in the region serviced by Southwest (LUV) in addition to Delta (DAL), load factors have been solid, and it has capacity to expand flights.

There’s reason to believe investors may hear about increased development on and near the airport this year. In fact, late last year, the Bay County Economic Development Alliance secured county tax incentives for the relocation of an aviation-related MRO firm to the airport, where it will potentially occupy three hangars and employ around 200 workers.

We’re told that the Florida Beaches International Airport is the MRO company’s first choice, and the only remaining contingency involves financing. If this company can secure adequate financing, we expect an announce­ment of the move to the West Bay Sector sometime before mid-2012.

If and when this operation joins the defense company in the West Bay sector, other facili­ties such as restaurants, gas stations, and convenience stores can be supported by the few hundred workers infiltrating the sector every day. Right now, virtually none of this exists near the airport.

When these busi­nesses do arise, they’ll do so on St. Joe-owned land—through outright purchase, a land lease, a joint venture, or in a St. Joe-owned building.

The Revival of a Deepwater Port
Roughly 60 miles southeast of the airport, economic activity in Gulf County—which has been in the doldrums for years—is likely to increase if Port of St. Joe, or PSJ, can ever revive maritime activities at its deepwater port.

One of 14 congressionally mandated deepwater ports in the state (not including Key West), we think the realization of a functioning port is closer than most investors are aware. Indeed, the governor, St. Joe, the port authority, and perhaps at least two sizable potential port customers are working to transform the dormant port into one of Florida’s functioning commercial maritime facilities.

Its location near the northernmost part of Florida, access to inland waterways and railways, potential for significant capacity expansion, and a “clean sheet” from which to design a master plan make it an attractive option for potential joint-venture part­ners, shippers, and manufacturers.

The ship channel connecting the PSJ to Gulf shipping lanes is congressionally authorized to a depth of 35 feet, which was maintained into the mid-1980s. However, sand accretion in the years since has reduced depth in spots, but the channel remains in surprisingly good shape according to an August 2011 survey by the Army Corps of Engineers.

Nonethe­less, significant capital will be needed to convert and rehab the St. Joe-owned waterfront acreage into a functional facility as well as for channel dredging, so investors should expect some sort of partnership with the Port St. Joe Port Authority in order to access federal grant money. In addition, investors shouldn’t be surprised to see St. Joe enter into a joint venture or partnership with another private company willing to commit its capital and expertise in port operations.

Importantly, St. Joe owns the vast majority of the developable land in Gulf County, including about 200 of the roughly 300 acres where the port operations will be located. As such, increased maritime opera­tions would drive economic activity in the region and benefit asset values. Studies have shown this to be the case in other regions, and we don’t see any reason to believe Gulf County wouldn’t benefit in a similar fashion.

Of the 574,000 St. Joe-owned acres, we continue to believe somewhere around 10%, or 58,000 acres, can conservatively be considered “higher and better use,” or HBU.

Included in this total are 16 of its more than 40 projects in development or predevelopment, its several thousand acres of mitigated wetlands from which it can sell or utilize credits, and its frontage along several miles of inland waterways, bays, and major highways.

Our base case pegs these acres at an average of about $32,000 each, ranging from $5,000 per acre for the mitigation acreage and bay, most road, and Intracoastal Waterway frontage to more than $100,000 per acre for parcels along US 98 in Panama City Beach, the future port site in PSJ, much of its beachfront land, and some of its more successful waterfront residential properties.

For the other 90% of Joe’s portfolio, we’re using $1,500 per acre as a proxy for timber value, even though some of it is worth more as conservation acreage. The company has roughly $116 million in other net assets such as a Resort (Watercolor), several golf courses, two marinas, and about $160 million in net cash. In sum, this valuation implies a per share value of about $30, assuming 93 million shares outstanding.

Investors shouldn’t be surprised to see St. Joe operate at a significantly lower operating loss in 2012, and possibly close to breakeven. We believe the compa­ny’s largest shareholder is adamant about ending the operating losses that have persisted for several years, and has mandated senior management to do whatever it takes.

To that end, the company made some tough choices about staffing, and we believe the current employee count is materially lower than just a few quarters ago. St. Joe also is taking the knife to other overhead expenses.

At roughly $2,500 per acre, we think general investor expectations about St. Joe’s success in the West Bay Sector are anything but high, while few, if any, in the investment community are aware of plans for a port revival. Finally, most expect continued operating losses at the company for some time to come.

Based upon what we’re hearing, there’s reason to believe a different perception about all three issues will prevail 12 months from now.